I stumbled on this while doing research for my book, the Essential Guide to Retirement. I wondered if CPF LIFE was really the best retirement plan, and if the returns beat private retirement plans. That was the convention wisdom. No insurer can beat CPF’s 4% returns, which are very high for a risk-free asset.
Members, please don’t share this article. I’ll explain below.
You can beat the returns of CPF LIFE with just a little foresight. The difference is hundreds of thousands.
I’m going to show you why and how.
Getting an Exemption
The first consideration is whether we can get out of CPF LIFE at all. The answer is yes. If you have a lifelong monthly pension from an insurer bought using cash, you can be fully exempted from setting aside the Full Retirement Sum (FRS) and need not join CPF LIFE.
The next question is that are these alternatives indeed better than CPF LIFE? There are many retirement plans out there, which you can find through a simple google search. There are subtle differences between plans, but the important aspects are:
- At least 4% return on your premium
- Guarantees your capital, and that you can withdraw it after a period. i.e. capital-guaranteed plans
Doing the Math
So let’s do a simple comparison. Two persons set aside the FRS of $181,000 at the age of 55. One individual places it in CPF LIFE, and the other into a private retirement plan.
The person who put it into CPF LIFE waits 10 years to start the payouts. Under a Standard Plan, he/she starts drawing about $1,450 a month, or $17,400 a year at age 65. This continues throughout the individual’s life, and the bequest to the heirs are zero by the time the person reaches 80.
From the age of 65-79, he/she had received $261,000 in monthly payouts.
On the other hand, the person who puts the same sum into a private retirement plan waits 4 years to start the payouts. After the waiting period, he/she starts drawing 4% of the premium paid, which is about $600 a month, or $7,240 a year.
He/she would have received $152,000 in monthly payouts, between the ages of 59 – 79. However, he/she still has the capital put in, which is $181,000. Adding the monthly payouts and the premium available, the total sum would be $333,000.
So the difference between going on CPF LIFE and a private plan is over $72,000 by the age of 80.
Why does this work?
Something most people don’t know is that CPF LIFE doesn’t break even until the age of 80. Your retirement sum (which was $181,000 compounding at 4% for 10 years) will only exceed what you have put in at around 80.
The chart above shows the decline of the bequest within CPF LIFE. It drains at over 6.7% a year, at about $17,170 per year. This is easily calculated, by dividing 100% over 15 years. The real drain is likely higher because the above doesn’t take into account interest.
So essentially, from the ages of 65 – 80, you are simply drawing down your retirement sum within CPF. You are living off its principle, rather than interest generated.
Private retirement plans don’t have this issue of a depreciating sum, because your capital is guaranteed after 5 years or so. If you have put in $181,000 in premiums, you and your heirs will get that amount back plus the monthly payouts.
However, the longer you live, the more the advantages shift to CPF LIFE, due to its relatively high monthly payout. I’ve done up a table of the projected returns.
|CPF LIFE payouts||Private plan||Difference|
But what happens when we leverage? So we triple the premium of $181,000 to $543,000. The monthly returns of $7,240 increase 225% to $16,290. The table below shows the gains over CPF LIFE between a private plan and a private plan, over the ages of 80 – 100 years.
|Age||Private Plan||With leverage|
You can stack the odds in your favour
Besides the higher amount received at an earlier age, there are several other advantages that private plans hold over CPF LIFE.
- Ability to leverage, which will improve returns dramatically. I’ve showed a simple example in the table above, but I’ll have to do another post discussing the leveraging as its too much to cover here.
- The private plan can be surrendered at anytime and funds withdrawn. Not possible with CPF LIFE.
- Private plans can start much earlier than CPF LIFE. You can feasibly start the income stream from your 30s and 40s. Again, this greatly improves the returns.
Both CPF LIFE and a private insurance plan have risks, mainly that their returns would drop. With the low interest rate environment, both CPF and insurers are likely to struggle with sustaining 4% returns. But CPF has the backing of the government, which has deep reserves. I would bet that insurers will drop rates earlier than CPF. Nonetheless, my private plan examples still work unless returns drop 2% or below.
There is another risk that CPF may decide to stop exemptions to CPF LIFE, and not allow for retirement sum withdrawals. For it to be sustainable, there needs to be a sizeable population on CPF LIFE.
- If you think you won’t live past 80 and wish for your family to have more, its better to put your funds into a private plan. But the longer you live, the more CPF LIFE beats private plans.
- Since most people don’t know how long they live, they can hedge their bets by utilising both private plans and CPF LIFE. Instead of the FRS, individuals can opt for the BRS, will allow them to withdraw more of their retirement sum.
- Most people who have access to privileged banking services should consider putting some money into a leveraged retirement plan as early as they can. Leveraging stacks the odds in your favour, and the risks seem minimal.
Its important to know that I’m not a insurance agent or financial planner. I don’t benefit at all from you buying any insurance or retirement products. I’m sharing this for educational purposes, and this is what I’m doing myself. It is a key component of my wealth strategy for my family.
You should talk to a privileged banking relationship manager to check my facts and get a second opinion too. They will likely be even more keen about it than me, because their commission is fairly high.
I also request for my members not to share this article. The more people that seek exemptions for CPF LIFE, the more likely CPF will close it off.
Hope you enjoyed this article. Have spent a lot of time on this. I also attach my excel sheet, if anyone is interested.